3 Markets Trumping the Dow

Normally, by this time in December, I’d be with Elisabeth’s family on our farm in Brazil. But this year, they’ve decided to come here to spend the holidays with us, and I’m glad they did.

I’ve lived overseas for many years — two years in Japan, twelve in Brazil. I’ve crisscrossed Europe and Latin America. I’ve visited Australia and China. And I’ve loved every moment of it.

But never in my lifetime have I been in a country that provides the same combination of opportunity, security and freedom as the United States. So for me, there’s no better place to live. But for my investment dollars, it’s a different story …

Three Foreign Stock MarketsLeaving the Dow in the Dust

Earlier this year, while the Dow was meandering, three foreign markets were rising.

And now, while the Dow has been rising, those three foreign markets have been surging.

The facts: Since June, when the market touched a temporary bottom, the Dow is up 16.2%.

But an Exchange Traded Fund (ETF) representing Australia’s leading stocks is up by 26.3% in the same period. And ETFs for Brazil and China are up 46% and 53%, respectively.

More on these in a moment. First, consider some of the chief reasons the U.S. market is lagging …

Debts. Divisions. Discontent.

You know that the U.S. has the largest trade deficit in history, plus one of the largest budget deficits.

You know that the U.S. economy is still crawling along at the moribund pace of just 2.2%.

And you know that core U.S. industries, such as housing and autos, are still drifting.

What you may not realize is that the dynamics underlying America’s psyche are also deteriorating:

The nation is deeply divided. The average citizen is expressing ever-growing discontent. And below the radar screen of Wall Street, these intangible forces are also a factor holding back the markets. The facts:

The Conference Board’s Consumer Confidence Index has been falling steadily since April — from a high of 110 down to just 102.9 in November.

Their Expectations Index, which evaluates what consumers see coming, fell even more deeply — to 89.2.

And perhaps most telling of all, the U.S. public’s overall political mood has just sunk to a new low.

Look. Back in February of 2002, even while we were still recovering from the shock of 9/11, at least 60 percent of Americans said the nation was on the right track.

Today, based on the latest poll out this month, only 25% say we’re on the right track.

That’s a radical shift in the mass psychology of our nation, with potentially far-reaching consequences — not only for politicians but for investors as well.

And you don’t have to have a Ph.D. to recognize that a mood swing of this magnitude must have deep roots. Yes, the war in Iraq is an obvious factor. But behind the obvious …

The average American household has the smallest cushion of savings of all time.

Household debts are off the charts. Just in the past seven years, it has increased by almost as much ALL the debt accumulated by all U.S. households — in the previous two centuries!

Variable rate mortgages are beginning to pop. Over $1 trillion are getting ready to reset at higher interest rates — not exactly a morale-booster for the millions of Americans already struggling to make monthly payments. Result: Delinquencies are surging.

Meanwhile …

Brazil Is Booming

When Brazil’s president, Luiz Inácio da Silva (“Lula”), first came to power four years ago in a landslide election, Wall Street feared he would default on the country’s foreign debts and gut the domestic economy.

But Lula did precisely the opposite. He invested heavily in international commerce to jump-start the economy. He closed landmark deals with Russia, China, South Africa, and others. He slashed the budget deficit, built up a large trade surplus, and, for the first time in Brazil’s history, paid off the country’s debts to the International Monetary Fund.

Then in 2005, new fears surfaced about Brazil — this time surrounding a corruption scandal that forced a series of high-level resignations. And again, many on Wall Street wondered if Brazil was on a precipice.

But less than two months ago, after winning re-election to a second term in another landslide, Lula effectively relegated the scandals to history and set the country on a course for more economic growth.

That helps explain why Brazil’s stock market has catapulted higher, and why the leading Exchange Traded Fund based on Brazil stocks — iShares MSCI Brazil Index (EWZ) — is up a whopping 46% since June.

Nor is this is a one-shot move. EWZ’s average annual return over the past three years is 46.7%, and its average over the past five years (from 2001 through 2006) is 33.3%.

Look at it this way:

Starting in 2001, if you had invested $10,000 in the Dow Jones U.S. Total Market Index Fund (IYY), you’d have $14,383 today. In contrast, if you had put the same $10,000 into EWZ, you’d now have $42,087, or more than four times your money.

One of EWZ’s key strengths: Over 55% of its holdings are in natural resources — split between energy and industrial materials.

That includes Petrobras, Brazil’s number one energy conglomerate and Companhia Vale do Rio Doce, its largest iron, copper and metals producer.

Brazil is also emerging as one of the world’s largest bread baskets. And no matter how much Brazil’s giant agribusinesses ramp up production, it never ceases to amaze me how many more arable lands are still available for cultivation.

In North America, when you stand before a vast, unpopulated area, it’s typically rock, sand, or tundra — territories that are largely unsuitable for crops.

But in Brazil, I can’t count the number of times I have stood before a landscape of vast, fertile lands — in the south, in central Brazil, and in the Amazon — that remain virtually untouched.

Australia’s Stock Market
Catching up Quickly

The vastness of Brazil’s territory is nearly matched by Australia’s.

So when my family and I were there last, we couldn’t help comparing the two countries:

Similar land area.

Similar abundance of natural resources.

BUT … barely one-ninth the population. And therein lies one of the few factors that has traditionally held Australia back: The scarcity of human resources.

Perhaps that’s why young, educated Europeans and Asians, often barred from easy entry into the U.S., are now flocking to Australia in droves. And that’s also why they look to Australia the way millions used to look to the United States — an untapped land where immigrants can start over and build a new life.

Most important, that’s also a key reason why the Australian economy has not had a single recession in 14 years.

Another difference to consider: In the U.S., government expenditures (as a percentage of GDP) have soared over the years. In Australia, they’ve fallen so dramatically the country is now close to posting a surplus.

The simplest way to participate in Australia’s success: Through the Australia ETF, the iShares MCSI Australia (EWA). Unlike the Brazil ETF I told you about a moment ago, however, its largest concentration is in financial services (49%), with industrial materials and energy the second largest (28%).

Its largest single holding: BHP Billition, which specializes is finding and extracting nearly everything Asia is now demanding: petroleum, aluminum, base metals, carbon steel materials, even diamonds and stainless steel.

Why China Outperforms Them All

We’ve told you about China’s breakneck economic growth and its record-smashing accumulation of foreign reserves.

Today, though, step back from the stats and look at the bigger picture:

For each and every person in Australia, there are sixty-five in China. Even with its population growing at the relatively slow rate of .77% per year, China adds the equivalent of one new Australia every two years!

In other words, China enjoys …

Nearly boundless human resources …

Equally boundless zeal for personal advancement, plus …

A passion for getting it done quickly and in a big way.

Keep this image firmly in mind. It does more to explain China’s growth than any number or theory.

For most Westerners, the speed and breadth of China’s success has come as a great surprise. But for anyone familiar with Chinese history, it’s simply a manifestation of a 5,000-year progression toward bigness. Some examples that spring to mind:

China’s Great Wall is so large it has been seen by American astronauts standing on the moon.

China’s Grand Canal, stretching a thousand miles from Beijing in the north to Hangzhou in the south, was built in just 25 years around 600 A.D. … and it’s still in use today.

Likewise, China’s modern economy, virtually built from scratch in less than a generation, is on its way to becoming the world’s first or second largest in another generation or two.

Indeed, it was only one generation ago that Mao’s successor, Deng Xiaoping, kicked off China’s economic explosion with the maxim “to get rich is glorious.”

But needless to say, those riches are no longer limited to people living on the Pacific’s eastern shores. American investors, sitting in the comfort of their living room, are also participating in China’s advances through ETFs representing China’s largest stocks, such as FXI.

FXI is similar to the Brazil and Australia ETFs I mentioned a moment ago in that it has large positions in China’s industrial materials (12%) and energy (19%), with a relatively heavy concentration in the largest companies of the sector, such as PetroChina.

And just as we’ve been telling you in recent months, it is the number one performer of all country-based ETFs.

What To Do

The table below gives you a summary of the four markets: The China ETF (FXI), the number one performer since June … the Brazil ETF, a close second … the Australia ETF, which is beginning to play catch-up … and the Dow Industrials, still far behind.

But no matter how good the past performance may be …

* It’s not prudent to buy on the crest of an upswing. Wait for minor weakness.

* Don’t invest strictly in the ETFs with the largest percentage gains. Also consider how consistent and steady the gains have been.

* Don’t put all your money in ETFs. Be sure to keep a good portion in the safest investment you can find, such as short-term Treasury bills or a Treasury-Only Money Fund.

Good luck and God bless!

Martin

P.S. We will not be publishing Money and Markets on Christmas day (next Monday).

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MONEY AND MARKETS (MaM) is published by Weiss Research, Inc. and written by Martin D. Weiss along with Sean Brodrick, Larry Edelson, Michael Larson, Nilus Mattive, and Tony Sagami. To avoid conflicts of interest, Weiss Research and its staff do not hold positions in companies recommended in MaM. Nor do we accept any compensation for such recommendations. The comments, graphs, forecasts, and indices published in MaM are based upon data whose accuracy is deemed reliable but not guaranteed. Performance returns cited are derived from our best estimates but must be considered hypothetical inasmuch as we do not track the actual prices investors pay or receive. Regular contributors and staff include John Burke, Amber Dakar, Wendy Montes de Oca, Kristen Adams, Jennifer Moran, Red Morgan, and Julie Trudeau.

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